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The Craziest Marijuana Statistic You'll Ever See

This figure is a complete head-scratcher in an otherwise fast-growing industry.

For all intents and purposes, the legal weed market is considered to be among the fastest-growing industries on the planet. After the industry registered close to $11 billion in worldwide sales in 2018, various Wall Street estimates pegged global annual sales at between $50 billion and $200 billion by 2029/2030. That's a double-digit annual growth rate, on a compound basis, no matter how you slice the data.

This cannabis statistic will have you scratching your head

Although marijuana remains illegal at the federal level via its Schedule I classification, that hasn't stopped 33 states from legalizing medical cannabis or 11 states from waving the green flag on adult consumption. A legalized market -- which is expected a few years down the line -- would assuredly offer a faster growth trajectory, but even now, with pot classified as a Schedule I drug, the U.S. is on track for over $7 billion in legalized spending in 2019. That's pretty close to half of all licensed global weed sales forecast in 2019.

Leading the charge, at least in the U.S., is the Golden State, California. This year, sales of legal weed should hit $3.1 billion, up from $2.5 billion in 2018, and account for around 40% of all legal-channel, licensed-store spending in the United States. This is what makes California such an attractive market for cannabis companies and investors.

According to the "State of the Legal Cannabis Markets" report from Arcview Market Research and BDS Analytics, which is where much of the sales data I've quoted was derived, California became the first state in the U.S. to ever see a decline in year-over-year pot sales in a post-legalization environment.

In 2017, California racked up $3 billon in legal sales solely from medical cannabis, which was legalized in the state back in 1996. On Jan. 1, 2018, recreational cannabis sales commenced, pursuant to the passage of Proposition 64 in the November 2016 elections. Yet, last year, legal-channel revenue declined by a half-billion dollars to $2.5 billion, despite recreational weed users being free to make purchases.

Image source: Getty Images.

Here's why California's marijuana sales have proven so disappointing

How in the world does the largest marijuana market in the world go backward in sales when it opens its doors to a broader audience of consumers? Let's take a closer look.

The first problem can likely be traced to California's aggressive taxation of legal weed. The Golden State imposes a 15% retail excise tax on marijuana, a base sales tax of 7.25%, potential county and city state taxes, and a cultivation tax that amounts to $9.25 per ounce of flower and $2.75 per ounce of leaves. These costs can push the aggregate tax rate well over 40%, and it still doesn't fully encompass the costs that are being passed along to consumers. That's because California's Prop 64-voted rules mandate that pot producers wholesale their product through licensed distributors who collect excise and cultivation taxes, as well as send product samples to independent laboratories for testing. All told, "State of the Legal Cannabis Markets" finds that aggregate legal taxation could hit as high as 77% in some Californian cities.

This brings me to the next point: the proliferation of black-market producers. Illicit producers don't have to wait, or pay, for state licenses to grow and sell cannabis, and they're certainly not going to pay excise tax, wholesale tax, or state and local income tax on what they bring in. Mind you, this doesn't negate the fact that black-market production is illegal, but it clearly hasn't stopped illicit-channel producers that are benefiting from substantially lower per-gram product prices than legal markets.

A report from the California Department of Food and Agriculture estimated that Californians legally bought 600,000 pounds of weed through medical dispensaries in 2016, which compares to the 1.9 million pounds bought through the black market. These illicit producers are going to be very difficult to (pardon the pun) weed out.

Image source: Getty Images.

A third major issue can be traced to the design of Prop 64. Though common among states that have legalized adult-use marijuana, municipalities have the right to approve or reject whether recreational pot sales will be allowed. In California, nearly 80% of the state's 482 municipalities have banned commercial cannabis activity. That's seriously reduced the sales prospects of legal cannabis in the state.

Furthermore, the "State of the Legal Cannabis Markets" report notes that, in order to obtain state licensing, businesses must first receive licensing from local authorities or regulators. These local regulators have been notoriously slow to approve licensing applications, leading to just one open dispensary per 61,000 adults aged 21 and over in the state, which compares to one dispensary per 5,567 adults aged 21 and over in Oregon.

All of these factors have worked together to create pricing and supply-side shocks to the legal cannabis market in California, and in 2018 it led to an almost unthinkable decline in marijuana revenue.

The promise and peril of California-centric pot stocks

Then again, we may not have needed Arcview and BDS Analytics to tell us there were problems.

MedMen Enterprises(OTC:MMNFF), which has 15 open locations in California, has offered insight into its in-state struggles through its operating results. In what should have been a banner time period for growth in the legal California market, MedMen reported a meager 5% sequential quarterly growth from its open locations in the Golden State during its fiscal third quarter. From brand-name dispensaries like MedMen to mom-and-pop shops, the cannabis industry in California has seen its share of early stage struggles.

Image source: Getty Images.

However, there's no denying that the Golden State offers a unique opportunity for businesses and investors to thrive over the long run. Estimates on Wall Street project that California could hit $11 billion in legal sales by 2030, providing for a better-than-fourfold increase in annual sales in just over a decade's time. That's an opportunity that well-funded pot stocks, and those with strong branding, can't ignore.

Cresco Labs(OTC:CRLBF), for example, is in the midst of acquiring Origin House(OTC:ORHOF) in an all-stock deal that was worth $823 million when announced but has subsequently declined in value. Though Cresco's more than 50 retail store licenses in close to a dozen states is somewhat pedestrian compared to other multistate dispensary chains, it's the company's push into California via Origin House that makes this deal worthwhile and puts the company on the map.

You see, Origin House is one of a relatively small number of companies to hold cannabis distribution licenses in California. Thus, buying Origin House will give Cresco Labs and its branded products access to more than 500 California dispensaries, all without having to open dispensaries of its own within the state.

There's no doubt that California offers opportunity to cannabis investors. But understand that fixing the state's numerous tax and supply issues is going to be a long and arduous process, and that could lead to a bumpy ride for businesses and investors.

Author

A Fool since 2010, and a graduate from UC San Diego with a B.A. in Economics, Sean specializes in the healthcare sector and investment planning. You'll often find him writing about Obamacare, marijuana, drug and device development, Social Security, taxes, retirement issues and general macroeconomic topics of interest. Follow @TMFUltraLong